Done by FORTUNE MUSHONGA P0113892H Applied Mathematics Department
Abstract Medicinal drugs have and always will be a necessity for most if not all entities of this world. The demand for medicinal drugs has always been high and it has maintained its status regardless of the economic challenges that Zimbabwe has been facing. A private owned pharmaceutical company in Zimbabwe that supplies medicinal drugs to Bulawayo citizens. The company operates under one management, and has been struggling to meet this demand thereby resulting in a lot of shortages.
The EOQ model was used in this project to help in the solving such shortages. It was discovered that the procurement manager was not keeping track of the pharmacys inventory to make sure he orders in time before the medicinal drugs actually run out hence making it impossible to meet demand. It was also discovered that the company was sometimes ordering more than enough medicinal drugs in anticipation of a high demand, thereby losing a lot of money in storage fees and transportation charges. The procurement manager was sometimes ordering less medicinal drugs which were not sufficient to cater for the demand of the product.
From calculations of the EOQ model, results were established to give the procurement manager a guideline of how to manage the companys inventory. The results gave the amount of medication that is supposed to be ordered each time and the level of medication that is supposed to trigger a new order (reorder point). A conclusion was made that the model would work for this pharmaceutical company and recommendations were made on how to implement the results of the EOQ model.
Acknowledgements Special thanks Arms Trading Store, Meluleki Sihwede for allowing me to do a research of the companys products. Great thanks also go to the Records and Archives Manager Miss Florence Kupeta. Special thanks also go to the staff of R.J Pharmacy in the Bulawayo, for providing the information necessary for my project.
I would also like to thank my family members and fellow classmates, for their help and support during the research process and also for giving me ideas on how best to present my project. Thanks also goes to my lecturer Mr. P. Nyamugure for his tireless efforts in teaching the concepts that were required to be able to come up with this project, his efforts are greatly appreciated. Also I greatly appreciate Mr. Jason for assisting me in presenting this project.
A last but not least thanks goes to the Lord Almighty for his guidance and protection throughout the course of my study of the project.
of units that a company should add to inventory with each order to minimize the total costs of inventorysuch as holding costs, order costs, and shortage costs. The EOQ is used as part of a continuous review inventory system, in which the level of inventory is monitored at all times, and a fixed quantity is ordered each time the inventory level reaches a specific reorder point. The EOQ provides a model for calculating the appropriate reorder point and the optimal reorder quantity to ensure the instantaneous replenishment of inventory with no shortages. It can be a valuable tool for small business owners like pharmacies who need to make decisions about how much inventory to keep on hand, how many items to order each time, and how often to reorder to incur the lowest possible costs. The EOQ model assumes that demand is constant, and that inventory is depleted at a fixed rate until it reaches zero. At that point, a specific number of items arrive to return the inventory to its beginning level. Since the model assumes instantaneous replenishment, there are no inventory shortages or associated costs. Therefore, the cost of inventory under the EOQ model involves a tradeoff between inventory holding costs (the cost of storage, as well as the cost of tying up capital in inventory rather than investing it or using it for other purposes) and order costs (any fees associated with placing orders, such as delivery charges). Ordering a large amount at one time will increase a small business's holding costs, while making more frequent orders of fewer items will reduce holding costs but increase order costs. The EOQ model finds the quantity that minimizes the sum of these costs. In business management, holding cost is money spent to keep and maintain a stock of goods in storage.
The most obvious holding costs include rent for the required space; equipment, materials, and labor to operate the space; insurance; security; interest on money invested in the inventory and space, and other direct expenses. Some stored goods become obsolete before they are sold, reducing their contribution to revenue while having no effect on their holding cost. Some goods are damaged by handling, weather, or other mechanisms. Some goods are lost through mishandling, poor record keeping, or theft. Holding cost also includes the opportunity cost of reduced responsiveness to customers' changing requirements, slowed introduction of improved items, and the inventory's value and direct expenses, since that money could be used for other purposes.
Ordering costs include all the costs incurred while placing an order and receiving the order, it does not include the actual cost of the goods. These costs include cost of preparing the order or the invoice, the stationery used, salary of the clerks, telephone costs etc. There is a cost involved in placing each order so firms try to avoid ordering for items individually so what they do is that they place the combined order for many items in one order to reduce the costs. Each order has a fixed costs associated with it and it is independent of the number of items in the order. If the ordering cost is C, the total demand or the number of units required is D and the number of items in an order is Q then: Total Ordering cost = C D/Q
3. Methodology Many companies in the world have experienced shortages in the products they supply due to poor management of inventories. Other companies have suffered losses due to large unnecessary inventories which are also due to poor management of inventories. The application of operations research techniques in the area of inventory management has helped the business world to gain a competitive edge in the market.
Inventory management involves: 1. Formulating a mathematical model describing behaviour of the inventory system 2. Seeking an optimal inventory policy with respect to the model. 3. Use a computerised information processing system to maintain a record of the current inventory levels 4. Using this record of current inventory levels, apply the optimal inventory policy to signal when and how much to replenish inventory.
Economic order quantity (EOQ) Model is the level of inventory that minimizes the total inventory holding costs and ordering costs. EOQ determines the point at which the combination of order costs and inventory carrying costs are the least. The result is the most cost effective quantity to order. In
purchasing this is known as the order quantity, in manufacturing it is known as the production lot size. The EOQ model is applicable where you have repetitive purchasing or planning of an item, demand for a product is constant over the year and each new order is delivered in full at one time when the inventory reaches zero.
The model to be used in this particular project is called The Economic Order Quantity Model (EOQ). The objectives of this model are to determine: a) How much to order when the level of inventory drops b) When to order to avoid shortages
The EOQ involves a continuous review of the following attributes: 1. Demand- This is described as the number of units that will need to be withdrawn from inventory for some use ( e.g. Sales) during a specific period 2. Cost of Ordering- this is the cost of ordering a given product, the cost comprises of transportation costs incurred per order. This cost is regarded constant regardless of the order quantity. 3. Holding Cost- this figure represents all the costs associated with the storage of the inventory until it is sold. This project will be dwelling on all the attributes of the EOQ model to help R.J Pharmacy determine how much to order to minimise its inventory costs and to determine the reorder points to avoid shortages. 1. Formulas i. Determining how much to order when inventory level drops at the same time minimising the total inventory costs
I =annual holding cost rate C = unit cost of inventory item C h = annual cost of holding one unit in inventory Ch=I * C Q= order quantity D= Demand (constant) Co= cost of placing one order (constant) Annual Holding Cost= Q*Ch
Annual Ordering Cost= (D/Q) Co Total cost= QCh + (D/Q) Co
Q * = Amount to order to minimize costs
ii. Determining reorder points to avoid shortages r = reorder point d= daily demand m= lead time (Time between inception of order and delivery) r=d *m
Q * = 2DC o /C h
4. Data collection
Choice of data to be collected The main problem here is to determine the demand for different medicinal drugs namely Antiretroviral (ARVs), Paracetamol, Antibiotics and the amount of inventory required at the pharmacy in order to meet the established demand.
Therefore the following data is to be collected: a) Financial accounts are prepared to acquire the opening stock, closing stock, and the damaged stock which cannot be resold or which can be sold at half the price of the medicinal drugs. b) Prescription forms that are used by the customers to buy some medication c) Receipts of purchase of the medicinal drugs from various warehouses namely Datlabs, Pharmanova and Varichem d) Sales of the paracetamol, antibiotics and ARV medication.
Data Analysis
RETAIL PRODUCTS
COSTS (US$) Salt Dlite Baby Cereal Diapers
Purchase cost 0.20
7.00 0.16 Transportation cost 0.05
1.20 0.01 Total/Ordering cost 0.25
8.20 0.17
The cost of each retail product is per unit sold in Arms Trading Store
The demand for Salt, Dlite Baby Cereal and Diapers in the 1 st quarter of the year 2013 was 2503, 1058 and 645
Calculations Annual holding cost rate of each 1kg packet of Salt is at 10% Annual holding cost rate of each 1kg packet of Dlite Baby Cereal is at 22% Annual holding cost rate of each Diaper is at 8% Unit cost per packet (C): Salt - $0.20 Dlite Baby Cereal - $7.00 Diaper - $0.16
Annual holding cost per unit cost: Ch IC Salt: $0.20 * 0.1 = $0.02 Dlite Baby Cereal: $7.00 * 0.22 = $1.54 Diapers: $0.16 * 0.08 = $0.0128
= 2.65 Total Cost = QCh * Co Salt T.C = 2.50 + 2.50 = 5
Dlite Baby Cereal T.C = 125.87 + 53.07 = 178.94 Diapers T.C = 0.26 + 2.65 = 2.91 Determining reorder points to avoid shortages Re-order point: r=dm r = 1 4 annual demand * daily lead time Salt The lead time to order salt from Fortwell Wholesalers is 2 days were 1 day is for placing the order and the other day for processing the order and getting it ready for collection. r = 2503 * (2/120) = 42 Dlite Baby Cereal
The lead time to order antibiotics from the National Foods Harare branch which is 4days were 1 day is for placing the order and the other 2 days for processing the order and getting it ready for collection and the last day is for collection. r = 1058 *(4/120) = 35 Diapers The lead time to order diapers from Fortwell Wholesalers is 2days were 1 day is for placing the order and the other day for processing the order and getting it ready for collection. r = 645 *(2/120) = 11 Results From the calculations done above, the results can be shown in the following table: Entity
Salt Dlite Baby Cereal
Diapers Q*
250 163 41 r 42 35 11 Total Cost
5 178.94 2.91
Q*- This is the minimum order quantity, meaning that this is the amount of medicinal drugs per packet of 20 tablets or 50millilitres that the procurement manager needs to order each time an order for more medicinal drugs is made in order to minimize costs incurred by the company. r - This is the reorder point, meaning that each time the stock levels of medicinal drugs get to this point in the pharmacy, the pharmacist is supposed to inform the procurement manager to start ordering more medicinal drugs.
Total Cost This is the total of those costs associated with maintaining or carrying a given level of inventory which depend on the size of the inventory and the costs associated with ordering the retail products.
With the results shown above it can be seen that Meluleki Sihwede is ordering little salt than the quantity required to satisfy the demand for the salt. Also there must be some problem with his sales person that he is not informing the him (Meluleki Sihwede) well in time to reorder the salt when the stock levels get to 42 packets.
The same applies to Dlite Baby Cereal Meluleki has been ordering a constant supply of 80 packets which is approximately half the required amount to cater for the demand of 163
Meluleki is ordering too many packets of the diapers. The demand is at 41 packets yet he is ordering 150 packets each month hence creating unnecessary holding costs of storing the unsold diaper packets
Conclusion The conclusion thereby stands to say that R.J Pharmacy was using a poor inventory management system resulting in some financial losses. The procurement manager should therefore use the results in the previous chapter to make decisions on how much to order and when to order more medicinal drugs.
This model will ensure that the pharmacy never runs out of medicinal drugs, meaning there will always be medicinal drugs at all times for clients who want to purchase the different types of medicinal drugs. This will increase the companys efficiency resulting in increased customer faith and a greater competitive edge.
The model also ensures that the costs of storing the medicinal drugs decrease. Hence increasing the companys profits, since the costs are reduced the amount of revenue increases.
Recommendations The procurement manager needs to continuously monitor the demand for medicinal drugs because although this model is for a constant demand, it is recommended that any changes in the demand be catered for in order to avoid further losses. The demand is likely to increase because of the increased customer faith resulting from better efficiency of the company, so the model will have to be recalculated using the new figures.
The pharmacist will need to be vigilant in keeping up to date with their balances of medicinal drugs to make sure they do not order before medicinal drugs is needed as it may resulting in demurrage costs. Keeping up to date with their balances of medicinal drugs will also ensure that they do not order after there is no more medicinal drugs. They should The procurement officer will also need to be ready at all times to order more medicinal drugs so as to minimise any delays in delivery which may cause run outs at the stations because the lead time will have been tempered with.
R.J Pharmacy can also invest in a medicinal drugs management system that will manage the inventory of the company. This will help the pharmacist to keep track of how many medicinal drugs are left and be able to keep track of the reorder point.
A manual with the results of this project must then be drafted and released in the procurement department and the stations so that even when new employees are
contracted by the company, they will know how to manage the inventory to avoid losses
References David Piasecki, Inventory Management Explained, March 2009 James H. Greene, American Production and Inventory Control Society, Production and Inventory Control Handbook, McGraw-Hill, January 1996 Richard J, Tersine, Principles of Inventory and Materials Management, PTR Prentice Hall, August 1993